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Friday, June 29, 2012

29/6/2012: The 'deal' - preliminary reaction

Overnight statement from the EA [emphasis mine]:

"We affirm that it is imperative to break the vicious circle between
banks and sovereigns. The Commission will present Proposals on the
basis of Article 127(6) for a single supervisory mechanism shortly. We
ask the Council to consider these Proposals as a matter of urgency by
the end of 2012. When an effective single supervisory mechanism is
established, involving the ECB, for banks in the euro area the ESM
could, following a regular decision, have the possibility to
recapitalize banks directly. This would rely on appropriate
conditionality, including compliance with state aid rules, which should
be institution- specific, sector-specific or economy-wide and would be
formalised in a Memorandum of Understanding.

The Eurogroup will examine
the situation of the Irish financial sector with the view of further
improving the sustainability of the well-performing adjustment
programme. Similar cases will be treated equally.

We urge the rapid conclusion of the Memorandum of Understanding
attached to the financial support to Spain for recapitalisation of its
banking sector. We reaffirm that the financial assistance will be
provided by the EFSF until the ESM becomes available, and that it will
then be transferred to the ESM, without gaining seniority status.

We affirm our strong commitment to do what is necessary to ensure the
financial stability of the euro area, in particular by using the
existing EFSF/ESM instruments in a flexible and efficient manner in
order to stabilise markets for Member States respecting their Country
Specific Recommendations and their other commitments including their
respective timelines, under the European Semester, the Stability and
Growth Pact and the Macroeconomic Imbalances Procedure. These
conditions should be reflected in a Memorandum of Understanding. We
welcome that the ECB has agreed to serve as an agent to EFSF/ESM in
conducting market operations in an effective and efficient manner.
We task the Eurogroup to implement these decisions by 9 July 2012."

I note that there is NO retrospection in the above - a negative for Ireland. So far we have a statement from some Irish Government members not present at the summit who claim there is retrospective applicability, but as far as I am aware, this is NOT confirmed in any documentary evidence.

I also note that transfers to ESM from EFSF will be carried out "without gaining seniority status" de jure, although it will most likely still be de facto super-senior debt - a positive for Ireland.

It is worth noting furthermore that countries entering ESM without first obtaining funding via EFSF might be able to avoid facing a Troika-imposed set of conditionalities, but will be required to comply only with the internal EU rules (see here). This, however, does not seem to apply to countries like Ireland who will enter ESM from EFSF and, potentially (based on reading of the official statement) to countries that have obtained funding not solely for the purpose of recapitalizing their banks 9again, precluding Ireland from softening of conditionalities).

Per Enda Kenny (via RTE):

Ireland's government debt (not only banks-related) will be 're-engineered' in other words - it will be restructured (effectively a soft default). "Mr Kenny said the new deal means Ireland's overall debt burden, including the bank debt, can be re-engineered in a way which will give Ireland equal treatment to Spain and any other countries which avail of the new system."

"where funding is made available through the EFSF it will later be transferred to the ESM" so it is now the Government position that we will have a second bailout.

So the Irish Government is de facto 'defaulting' and welcomes this. And it is going into the second bailout despite repeated claims that it will be funding itself via markets post 2013. And it welcomes this too. Reverse gear has not been used as much for some time on Merrion St.

I have consistently called both events as inevitable for Ireland. Hence, in my view, the 'deal' is a net positive. However, we cannot tell how positive it is yet.

One area of concern will be the treatment of the banks debt under ESM - with respect to seniority and any attached Government guarantees. In particular, in my view, if ESM were to assume directly unsecured banks debt, even with an attached explicit sovereign guarantee, such debt will have to adversely impact ESM cost of funding.

The biggest issue with the above statement is that it will NOT reduce overall economic debt carried by the EU states, including Ireland. The potential reduction in the cost of financing this debt is good news. The fact that this economy (not banks or some rich uncle in America) - aka us - are still on the hook for debts of insolvent banks remains.

Ditto for Euro area as a whole. You might call it 'Government Debt related to the banks', you might call it 'quasi-Government Debt related to the banks' or 'Non-Government Debt guaranteed by the Government to the super-senior lender related to the banks' or indeed a 'Pink Teddy Bear that stinks up the room' - the debt is... err... still there and there will be more of it post this 'deal'.

Update 1: some interesting thoughts - it appears from the EU statement that any euro area member state in compliance with fiscal constraints can apply for ESM funding of the banking sector measures. Now, if - as the Irish Government are claiming - such funding can be applicable to restructuring past sovereign exposures to banking sector, then:

As Belgium is already starting to signal, it can be applied to €4 billion spent on Dexia Banque Belgique plus €54 in guarantees extended to the bank (link covering more current exposures potential), plus €6 billion in Franco-Belgian assistance the bank received back in 2008 (link).

Now, give it a thought - ESM is supposed to run at €500 billion absorbing existent EFSF up to €700 billion. So even if Spain just caps EFSF and it transfers to ESM, we have - before Italy comes waltzing in - ESM full capacity potential left after the banks bailouts are retrospected into it - of what? Some €200 billion max?.. or absent EFSF - at the announced running volume - nil.

This sort of suggests there is serious problem with an idea of allowing retrospective roll-backs of banks-related debt and measures to ESM...

Update 2: It appears that Enda Kenny's alleged contribution to the summit ('winning the deal for Ireland') is not a part of the record of the summit, at least as far as I can see (one example - here).

Update 3: H/T to Brian Lucey: this is just in - Germany apparently/allegedly wants ESM bank aid to be tied to acceptance of the Financial Transactions Tax. I suppose compliance with a harmonized corporate tax will be the condition too. In the end, the 'Enda deal' might just become a seismic event... So the logic of FTT link is therefore, in Irish context will be:Step 1: EA leaders use Irish taxpayers to rescue own speculators and banks from Anglo/INBS etc default on bonds.Step 2: EA leaders use FTT to demolish jobs in Dublin IFSC, so they can finance their 'growth package'?The sort of the 'deal' we've been waiting for from our 'European partners'?

Update 4: Citing Spiegel source, Global Macro Monitor blog states [emphasis is mine]: "What happens to the countries that have already received money from the temporary rescue fund, the EFSF? Officials in Brussels said that the new decision did not change anything about the programs for Greece, Portugal and Ireland. All the agreed goals will continue to apply and be monitored by the troika. But those countries might also start clamoring for the terms of their deals to be relaxed. The summit’s decision gives the Greek government in particular more ammunition for renegotiating the terms of its bailout, a step that new Greek Prime Minister Antonis Samaras has already said he wants to take."

Disclaimer

This blog represents my personal views and is not reflective of the views or opinions held by any company, contractor, client or employer I work for currently or have worked for in the past. These views are not an endorsement to take any action in the markets or of any political position, figures or parties.

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